World View: China’s Stock Market Looks Increasingly Like America in 1929

This morning’s key headlines from GenerationalDynamics.com

  • Concerns are growing about China’s stock market crash
  • China’s stock market looks increasingly like America in 1929

Concerns are growing about China’s stock market crash

China's small investors hold their heads as their life savings drain away (Corbis)
China’s small investors hold their heads as their life savings drain away (Corbis)

The world has been focused this week on the financial crisis in Greece, but the financial crisis in China has the potential to be much more significant for the world. The Greek crisis is arguably just political, but a stock market crash is something that is almost completely out of control of any government.

Chinese officials are breathing a sigh of relief today, because China’s stock markets rebounded 10% on Thursday and Friday, after falling 30% since June 12. It’s not an exaggeration to say that government officials have been panicking as much as investors have.

Chinese officials have taken desperate measures to stop the stock market crash. They have reduced interest rates, so that it is easier to borrow money to invest in stocks. They have forbidden large investors from selling any stocks for six months. Half the companies on the stock market have suspended trading, for fear that if they are allowed to trade, then their prices will fall. Margin rules have changed in the last couple of days to let people borrow a lot more money, and use it to buy stocks.

So now the Chinese are praying that the market won’t start falling again. China’s stock market increased by 250% in the year preceding June 12, and was in a huge bubble. So far, the bubble has only partially popped, and bubbles never only pop partially. In fact, what they always do is overshoot their old indexes on the way down (applying the Law of Mean Reversion).

It is been a traumatic month for small investors, two-thirds of whom have not even finished high school. Some are retired, some are migrants. All of them have lost confidence.

As long-time readers know, Generational Dynamics predicts that China is headed for two wars: an internal civil war, the first major civil war since the Communist revolution, and an external war, leading a world war with the United States, their first world war since World War II. These two wars are not inconsistent with each other, any more than the Communist Revolution and World War II were not inconsistent with each other.

A stock market crash triggering a Chinese economic depression would be enough to trigger an internal rebellion. One way that Chinese officials might try to externalize the internal rebellion would be to attack Japan or Vietnam or India or the United States.

So a major stock market crash in China could have far-reaching effects on the rest of the world. And China does appear to be in the middle of a major stock market crash. Reuters and Guardian (London)

China’s stock market looks increasingly like America in 1929

China’s stock market looks more and more like America’s in the 1920s, leading up the crash in 1929, according to Andy Xie, former Morgan Stanley Chief Asia-Pacific Economist, and former World Bank Economist, when he was interviewed on Bloomberg TV.

According to Xie, the current stock market rebound might last for a while, but then it could fall again sharply, so that it goes down “in waves.”

Xie compares what is happening in China today to “pump and dump schemes” of the 1920s. The perpetrators would buy shares of a stock at a low price, and then pump up the price of the stock by means of a media hype campaign of some type, encouraging people to buy the stock. The perpetrators would then dump their stock shares at the high price, which would collapse the price for the people who had fallen for the hype campaign. Pump and dump schemes were made illegal after the 1929 crash, but they’re still practiced regularly on CNBC today.

According to Xie, China’s stock market bubble was backed almost exclusively in this way, with no real economic fundamentals in play (my transcription):

In the 1920s the US market was manipulated by all these pump and dump guys, before the government started to regulate the market. And they organized trusts to pump certain stocks.

In China it’s become ubiquitous. The extent is far greater that what had happened in the United States in the 1920s.

It’s been going on for 20 years. More and more people keep joining the dark side, and the people are losing money quicker — every cycle you lose money quicker than the previous one.

So this time around, people with the real cash, didn’t really join in. You see [in the media] all the pictures of the people going in there. These are really like a lot of young people, who just got their first job, not much money, and so that’s why this market has been so dependent on margin loans. … Even at the top of the market, only about 20% of the market capitalization are liquid shares.

So this market has not been pumped by real money. It’s been pumped up by the loans. And the loans are borrowed by those guys who have been pumping. So at the end of the day, they look around, all they see are people are like them. So what are you gonna do? You keep doing that, and you borrow more, and hope one day the real money will come in.

According to Xie, the real market crash is not in stocks, but in the real estate market, which is 30-40 times as large as the stock market.

The property market really burst a couple of years ago, but it’s been covered up by the financial system — not foreclosing on developers who go into default.

The stock market ride has raised the hope of these developers that they could somehow get money from the stock market.

So everything would be fine. But the stock market is small compared to the property market. China’s debt is like 200 trillion renminbi. The stock market at the peak was 6 trillion. So the big game is not the stock market. The stock market offers the hope that if it keeps going up, then it will bail out everybody. …

It’s fair to say that most developers are technically bankrupt. … Even when you look at Shanghai and Beijing, where markets are supposed to be very good – that’s what people really think – but the sales are down 70-80%.

The property market has been the driving force in [the economy].

Electricity production is flat. … You look at the consumption of whatever commodity – it’s down. China’s imports are down at a double digit rate, and exports are flat. You look at freight traffic – real freight traffic is down. It’s difficult to see what’s going on.

What the stock market did was to raise hope. Something was going up. And if it kept going up, eventually it would pull everything up.

That hope was dashed a few days ago.

Investopedia

KEYS: Generational Dynamics, China, Shanghai, Andy Xie, pump and dump
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